High‐Frequency Trading and the New Stock Market: Sense and Nonsense

17 Pages Posted: 21 Feb 2018

See all articles by Merritt B. Fox

Merritt B. Fox

Columbia University - Law School

Lawrence R. Glosten

Columbia Business School - Finance and Economics

Gabriel V. Rauterberg

University of Michigan Law School

Date Written: Fall 2017

Abstract

The stock market has been transformed during the last 25 years. Human suppliers of liquidity like the NASDAQ dealers and NYSE specialists have been replaced by algorithmic market making; stocks that once traded on a single venue now trade across twelve exchanges and a multitude of alternative trading systems. New venues like dark pools, and new participants like high‐frequency traders, have emerged to take on prominent roles. This new market has had more than its share of controversy and regulatory scrutiny, particularly in the wake of Michael Lewis’s bestseller Flash Boys. In this article, the authors analyze five of the most controversial new market practices, including various high‐frequency trading strategies and dark pool activities. They set out a simple conceptual framework based on adverse selection and agency problems, and apply that framework to assess the welfare effects of each of the five practices. While much that is criticized is indeed objectionable, other controversial practices are much more complex than popularly imagined and may in fact be socially desirable. They conclude by evaluating a range of potential reforms to equity market structure.

Suggested Citation

Fox, Merritt B. and Glosten, Lawrence R. and Rauterberg, Gabriel V., High‐Frequency Trading and the New Stock Market: Sense and Nonsense (Fall 2017). Journal of Applied Corporate Finance, Vol. 29, Issue 4, pp. 30-44, 2017. Available at SSRN: https://ssrn.com/abstract=3127150 or http://dx.doi.org/10.1111/jacf.12260

Merritt B. Fox (Contact Author)

Columbia University - Law School ( email )

435 West 116th Street
New York, NY 10025
United States

Lawrence R. Glosten

Columbia Business School - Finance and Economics ( email )

3022 Broadway
New York, NY 10027
United States

Gabriel V. Rauterberg

University of Michigan Law School ( email )

625 South State Street
Ann Arbor, MI 48109-1215
United States

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